Unit – 1 Investment

Investment Meaning:-
A person requires money for his day to day needs & for his current consumption. But when he puts
his money which is currently not utilized by him, in to some assets for long-term purpose that is
known to be as Investment.

Investment is the employment of funds on assets with the aim of earning income, monetary
benefits or capital appreciation.

Investment is the employment of funds on assets with the aim of earning income (Uncertain return)
in the future.

An Investment Acc. to Economist: - Investment is the net addition made to the national capital stock
that consist of goods & service that are used for production.

An Investor (Person who made the investment), having extra cash, could invest in securities or in
other assets such as Gold, Real estate or in Bank Account. All these are broadly termed as
Investment.

Investment comprise of two most important factors:-

Time

Investment

Risk

As an investor invest his funds to get a return in the future = Long term = Time factor & the funds
invested is certain, but the return in future may be uncertain, this indicate the risk factor.

For Example:-

Mr X having Rs. 10000 to invest for 5 years in some property (assets) or share.

The Amt. invested = Rs. 10000 (Certain)

The return Expected = May be equal, less than or more than the expected return (Risk Factor)

The tenure of investment = 5 years (Time)

Nature
The Investment is the employment of funds (Certain Amount) with the aim of earning income in the
future. This definition states the nature of investment as follows:-

1) Long term (Future return)

2) Risk taking (Risky return)

3) Uncertain (Depending on the market fluctuation)

4) Futuristic (Future Security)

5) Capital appreciation(Increase in income)

6) Utilization of fund (Proper utilization of ideal cash)

Investment Process

Investment Analysis valuation Portfolio Portfolio

Policy Construction Evaluation

Market Industry Company

Appraisal Revision

Investible Objectives Knowledge

Funds Intrinsic future

Value Value

Diversification Selection & Allocation

 Explanation of Investment Process

1) Investment Policy :-The investor before making investment formulates the policy. The
essentials ingredients of the policy are:-
1.1 Investible Funds
1.2 Objectives
1.3 Knowledge

1.1) Investible Funds: -Funds which are kept for making investment, entire investment revolve
around the investible funds. Funds may be generated through savings or from borrowings.
(If funds are borrowed the investor needs to be more careful)

1.2) Objectives: -Objectives of investment are based on the required rate of return like regular
income, risk, regular liquidity, while the main objective of investment is to earn return with low
risk.

1.3) Knowledge: -Knowledge about the investment alternatives and market play a key role in the
policy formulation. Investment alternative ranges from security to the real estate investment or
equity (is high yielding) & tax sheltered scheme offer tax benefits to the investors.

2) Security analysis: -After formulating the investment policy, the securities to be

bought have to be scrutinised through the market, industries and company industries.
2.1) Market Analysis
2.2) Industry Analysis
2.3) Company Analysis

2.1)Market Analysis: -The stock market shows the general economic scenario. The
stock price may be fluctuating in the short run but in the run long they move on trends i.e.
either or upwards.

2.2) Industries Analysis: -The industries contribute to the output of the major segment
of the economy. Some industries grow faster than gross domestic product (GDP) and
expected to continue their growth.

2.3) Company Analysis: -Company analysis helps the investors to make better decision.
The “company earning profitability operating efficiency, capital structure, management”
have to be screened as these factors directly affect the stock price and the returns.
Company with high product market share (Reliance, Tata, and Honda …….etc.) is compared
with the market price and then the investment decisions are made.
3) Valuation:-
Valuation helps the investor to determine the return and risk. Valuation can be done by 2
ways by finding either

3.1) Intrinsic value:- Intrinsic value of the share is measured through the book value of the
share and price earnings ratio. For this various advanced models have been developed to
value the share.

3.2) Future Value:- Future value of the securities is calculated with the help of trend analysis
technique. The analysis of historical behavioural price enables the investors to predict the
future value.

4) Construction of Portfolio:-
A portfolio is a blend / combination of securities and portfolio is constructed in the way so
that the investor’s goals and objectives are achieved. For this the investor is to decide with
available securities has his can mix-match (combine) so that his objectives get achieved with
maximum returns and minimum risk. To get the good combination of securities and
maximum returns, Investor needs to diversifies his portfolio and allocate funds among the
securities.

4.1) Diversification:-Diversification means dividing the risk in order to attain maximum

returns. A diversified portfolio is comparatively less risky than holding a single portfolio.
There are various way by which diversification can be done for ex:-

An investor can put his funds in securities like in

a) Debt and Equity diversification

b) Industry diversification
c) Company diversification

4.2) Selection:-Based on diversification level, industry analysis securities are supposed to be

selected and funds are to be allocated, and construction of portfolio is done.

5) Evaluation:- The portfolio has to be manage efficiently and efficient management calls
for evaluation of the portfolio that consists of portfolio appraisal and revision.

5.1) Appraisal:-Risk and return of security vary for time to time, variation on return and
securities in measures and compared and required steps can be taken to avoid any loss.

5.2) Revision:-After appraisal if any changes are required than at that level this calls for
revision. The low yielding securities with high risk are replaced with high yielding securities
with low risk return.
 Investment Alternatives

Negotiable Non- Negotiable

Variable Fixed Deposit Life Insurance Mutual funds Tax Sheltered

Income Income

Equity share Preference share Bank PPF NSC NSS

Growth share Bonds Deposit

Income share Debenture Post office

Defensive share IVP & KVP Deposit

Cyclical share Money Market NBFC Deposit Growth Fund Income Fund

Speculative share

Balanced Fund Open ended

Treasury commercial Certificate of Close ended

Bill Paper Deposit

General Life Pension Children

Insurance Assurance Plan plan

Explanation of Investment Alternative

(A) NEGOTIABLE SECURITIES

NEGOTIABLE SECURITIES are those financial securities that are transferable, they may yield
variable income or fixed income. NEGOTIABLE SECURITIES

Variable Income Fixed Income

a.1 Variable Income :- Securities like equity share are variable income securities.

Equity Share:-

 Equity share are commonly referred to common share or ordinary share.

 The word share & stocks are interchangeably used but there is a different between there.
 Share capital of a company is divided into a number of small unit of equal value share.
 Share certificate means a certificate under under the common seal of the company
specifying the number of share has by any number. .

Equity shares has the following right ace to sec 85C2.

 Right to vote.
 Right to control Management.
 Right to share in the profit in the firm dividend.
 Right to apply in the court if there in any discrepancies.

Type of Shares:-

a) Growth Shares:- The stock have higher rate of growth than the industrial growth rate
profitability are referred to a growth shares.
b) Income Shares:- These stocks belongs to lots that has comparatively stable operations &
limited growth opportunities.
c) Defensive Shares:- These are relatively unaffected by the market movements for exp.
Pharmaceuticals .
d) Cyclical Shares:- Business cycle effects the cyclical shares. The upward & downward
movements of the business cycle offers the stock prices of certain companies.
e) Speculative Share :- Share that have lot of speculative trading in there are referred to as
speculative share.
a.2) Fixed Income:- Bonds, debentures, Indra Vikas Patres, Kisan Vikas Patres, Government
Securities & Money Markets Securities yield a fixed Income.

Preference Shares:-
 Preference Shares resembles the bond & other equity features.
 Like bond Preference Shares claim on lots. Income & like equity , it is a perpetual liability of
the corporate.
 Decision to pay dividend to preference stock depend upon the board of director.
 Preference Shares holder does not enjoy any of the voting right, unless any resolution affect
their right.

Type of Preference Shares. . .

 Cumulative & Noncumulative preference shares.

 Convertible & Non convertible Preference Shares
 Redeemable & irredeemable Preference Shares.

BOND:-

 Bond is the long terms debts instrument that premises to pay fixed annual sum as interest
for specified period of time.
 Bond have a face value that is known as par value.
 Interest is fixed & is payable semi-annually or annually known as coupon rate.
 Bond are traded in the stock market. Where they are traded the market value may be at par
or at premium or at discount.

Type of Bond. . .

 Secured &unsecured bond.

 Perpetual & Redeemable bond.
 Fixed interest rate & floating interest rate bond.
 Zero coupon ponds.
 Deep discounted bonds.
 Capital indexed bonds.

Debentures. . .
Debentures are generally issued by the private security as a long term promissory note for
raising loan capital. For this Co. promises to pay interest & principal amt. Bonds are the alternatives
of Debentures in India. It is given as a certificate of indebtedness by the Co. Specifying the date of
redemption & rate of interest. Rate of Debentures are fixed at the time of issue, which in known as
contractual or coupon rate.
Types of Debentures. . .

 Secured or unsecured
 Partly convertible
 Fully convertible
 Non convertible

IVPs & KVPs. . .

There are the saving certificates issued by Post Office.

IVP = Indian Vikas Patra, face value of 500, 1000, 5000 Rs.

KVP = Kisan Vikas Patra, face value of 1000, 5000, 10000 Rs.

The capital is doubled in 5.5 years with the return of 13.47% & are ensiles transferable.

Government Securities . . .
Securities issued by the central state Government & quasi govt. agencies. There are secured
financial instruments the rate of interest on these securities is relatively lower because of their high
liquidity & safety.

Money Market Security. . .

There are having very short term Maturity say less than 1 year

Money Market Security

Treasury Bill Commercial Paper Certificate of deposit

Treasury Bill :- A short term borrowing instrument by the government.

Commercial Paper :- Short term negotiable instrument with fixed maturity period ,an unsecured
promissory note issued by the Co. either directly or through banks. Maturity period varies from 3 to
6 month.

Certificate of deposit :- it’s a Marketable receipt of funds deposited in a bank for a fixed period at a
specified rate of interest.
Non Negotiable securities:-
As the name says Non Negotiable, it is not transferable.

1. Bank Deposits:-it is a simple way / methodsfFor the investor. He has to open a bank account
& simply deposits his money.

2. Post Office Deposits:-Like banks, Post Office also offers fixed deposit facility & monthly
income scheme. Interest rate is fixed.

3. NBFC Deposits:-Non-Banking financial companies. NBPC comes under the purview of RBI.
Amendment of RBI made registrations compulsory for NBFC. The maturity periods ranges for
few months to 5 years. Limit of acceptance based on the credit rating to company. The
interest rate of NBFC is higher than that of commercial bank on public deposit. The rate
varies according to maturity period.

4. Tax Sheltered Saving Scheme:-the tax sheltered saving scheme offer tax relief to these who
participate in these scheme according to income tax

 Public Provident Fund scheme (PPF)

 National Shaving scheme(NNS)

 National Shaving Certificate VIII series (NSC)

1. PPF:-PPF earns an interest rate of 12 % p.a. which is excepted form income tax under section
88.The maximum limit of annual deposit Rs. 70,000/-, the A/c holder has an option to
withdraw 50% of the balance to his credit after a certain period.

2. NSS:-This scheme helps in deferring the tax payment individuals and HUF are eligible to
open NSS A/c. NSS-87 gives 100% income tax rebate but the interest as well as the capital
are fully taxable if withdrawn during their lifetime.

3. NSC:-This scheme is offered by post office. They come in the value of 500, 1000, 5000, &
10,000. The interest rate is cumulative at the rate of 12% P.A.& payable biannually. No
withdrawal is permitted.

 Life Insurance.

 Mutual Funds.
 Return & Risk
Any investor, before investing his or her investible fund must analysis the risk associated
with the particular stock. Investment decisions are influenced by various motives. Some
people invest in business to acquire control& enjoy the prestige associated with it. Some
people invest in some other option.

For earning return investor has to bear some risk. Risk& return are 2 sides of the Investment
Coin.

Investment decision, therefore, involve a trade-off between risk & return.

Risk
The dictionary meaning of risk is the possibility of loss or injury.

Risk refers to the possibility that the actual outcome of an investment will differ from its
expected outcome, the wider the range of possible outcomes, the greater the risk.

Return
Return is the primary motivating force that drives investment. It represents the reward for
undertaking investment.

Some of investment is about the return, measurement of historical return as it is an

important Input in estimating future return.
 Component of Total Risk
The components of risk are as follows:-

Risk

Systematic risk Unsystematic risk

Market risk Interest Purchasing Business risk Financial risk

rate risk power risk

Internal business risk External business risk

Fluctuation R & D Single product Social & regulatory

In sales Fixed cost factor Business

cycle

Personal management Political risk

 Systematic & Unsystematic Risk

Systematic Risk:-

Systematic risk is a risk that is caused by external factors of a particular company & is the
uncontrollable by company. Systematic risk affects the market as a whole.

Systematic risk are unavoidable. The systematic risk is further divided into;

a) Market Risk

b) Interesr Rate Risk

c) Purchasing power Risk

a) Market Risk:-

Market risk are those risk that caused by the alternative force of bull market & bear market
there are various force that affect the stock market are tangible & intangible events.

If the earning power of the corporate sector & the interest rate structure remains more or
less unchanged, price of securities, equity shares is particular, trends to fluctuate.

b)Interest Rate Risk:-

The change in interest rate has a bearing on the welfare of investor. As the interest rate
goes up, the market price of the existing fixed income securities falls & vice versa. Changes
in interest rate have a direct bearing on the price of fixed income securities that affect
equity price too. Fluctuation in the interest rate is caused by the changes in the Monetary
policy.

Interest rate not only affects the security traders but also the corporate bodies who carry
their business with barrowed funds.

c) Purchasing Power Risk:-

Inflation is the reason behind the loss of purchasing power, Purchasing power risk is the
probable loss in the purchasing power of the return to be received.
 Unsystematic Risk:-
Unsystematic risk occurs from managerial efficiency, technological change in the production
process, availability of raw material etc. The nature of the factor differ from industry to
industry and company to company. They have to analyse separately and for each industry &
firm.

Unsystematic risk is broadly classified into:-

a) Business Risk:-

It is the part of unsystematic risk caused by the operating environment of the business.
Business risk are arise from the inability of a firm to maintain its competitive edge & the
growth or stability of earning.

Business risk are further classified as -> Internal risk -> External Risk.

Financial Risk:-

Financial risk is a company in associated with the capital structure of the company. Capital
structure comprise of equity funds & barrowed funds.

The interest rate payment affects the payments that are due to equity investors.

The use of debt with the owned funds to increase the return to the shareholders is known
as financial leverage.